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Does Competitive Pricing Cause Market Breakdown under Extreme Adverse Selection?

George J. Mailath
University of Pennsylvania - Department of Economics

Georg Noldeke
University of Basel

July 30, 2007

PIER Working Paper No. 07-022

Abstract:
We study market breakdown in a finance context under extreme adverse selection with and without competitive pricing. Adverse selection is extreme if for any price there are informed agent types with whom uninformed agents prefer not to trade. Market breakdown occurs when no trade is the only equilibrium outcome. We present a necessary and sufficient condition for market breakdown. If the condition holds, then trade is not viable. If the condition fails, then trade can occur under competitive pricing. There are environments in which the condition holds and others in which it fails.

Keywords: Adverse selection, market breakdown, separation, competitive pricing

JEL Classifications: D40, D82, D83, G12, G14

Working Paper Series

Date posted: August 01, 2007 ; Last revised: August 01, 2007

Suggested Citation

Mailath, George J. and Noldeke, Georg, Does Competitive Pricing Cause Market Breakdown under Extreme Adverse Selection? (July 30, 2007). PIER Working Paper No. 07-022. Available at SSRN: http://ssrn.com/abstract=1004287

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Contact Information

George J. Mailath (Contact Author) University of Pennsylvania - Department of Economics ( email ) 3718 Locust Walk Philadelphia, PA 19104 United States 215-898-7749 (Phone) 215-573-2057 (Fax) HOME PAGE: http://www.ssc.upenn.edu/~gmailath
Georg Noldeke University of Basel ( email ) Peter-Merian-Weg 6 Basel 4003 Switzerland

Abstract

References (37)

Date posted: August 01, 2007 ; Last revised: August 01, 2007

Suggested Citation

Contact Information

George J. Mailath (Contact Author)

Georg Noldeke